The growing outreach of Chinese national oil companies (NOCs) has stoked
concerns that Beijing is maneuvering to lock up global energy assets. Yet
recent agreements with Russia, Kazakhstan, Brazil and Venezuela for a combined
value of nearly US$50 billion in Chinese capital indicate oil-producing
countries have maintained control of their assets.

China has grown to become the world's second largest consumer and importer of
oil, and the government has been pushing its NOCs to implement a "go-out"
strategy to secure overseas energy supply. [1]

This new strategy is taking the shape of a formula of "loans-for-energy", which
involves a mix of state-owned and private actors. These complex arrangements
indicate that China's expansion of

overseas-energy assets is a long-term goal and that it is increasingly
interested in securing Chinese outward investments with its international
partners.

In February, China National Petroleum Corporation (CNPC), the country's largest
oil company, signed a raft of agreements with Moscow, in which China would
provide $25 billion in soft loans to Russia in return for a long-term
commitment to supply China with oil. In the same month, China and Venezuela
agreed to double their joint investment fund to $12 billion by injecting an
additional $4 billion from China, in return for Venezuela's state-run oil
company PDVSA's commitment to sell CNPC between 80,000-200,000 barrels of oil
per day (bpd) by 2015.

On February 19, China Development Bank, a financial institution under the State
Council primarily responsible for raising funds for large infrastructure
projects, sealed a similar deal with Petrobras - the Brazilian state-owned oil
major - for a Chinese loan of $10 billion in exchange for a 10-year oil supply
memorandum. This agreement will allow China Petroleum & Chemical Corp,
known as Sinopec, the largest refining company in Asia, and CNPC to receive up
to 150,000 bpd beginning this year, increasing to 200,000 bpd in the next nine
years.

China's fourth "loans-for-oil" deal, which was also signed in February, was
with Kazakhstan. Under the terms of the contract, Kazakhstan will receive $10
billion in financing for its oil projects. China's Export and Import Bank (Exim
Bank), the official export credit agency of the Chinese government, lent the
state-owned Development Bank of Kazakhstan $5 billion, while CNPC extended a $5
billion loan to its Kazakh counterpart KazMunaiGas.

Complex "loans-for-oil" formula
The four aforementioned deals all entail extensive and complicated negotiations
between the parties involved, and they all involve arrangements in what the
Chinese call "loans-for-oil" (daikuan huan shiyuo).

China's $25 billion deal with Russia, for example, is comprised of four
separate core agreements - two loan agreements between China Development Bank
and Russian oil firms Rosneft and Transneft, respectively; one oil-supply
agreement between CNPC and Rosneft; plus one oil pipeline construction and
operation agreement between CNPC and Transneft.

Under the provisions of the two loan agreements, Russian firms must use Chinese
loans for projects related to oil supplies that are going to China, but Rosneft
is also permitted to use part of the loan to repay its debts to other
non-Chinese financial institutes. These agreements could potentially secure oil
supplies amounting to 300 million tons over 20 years. The supplies are worth
almost $90 billion at current prices.

Yet it would be inaccurate to presume that China is buying $90 billion worth of
oil with $25 billion of loan. Instead, China is expected to buy the oil at
market price at the time of delivery, and Russia will pay back the loans
separately in cash, under an adjustable interest rate. In other words, it may
be somewhat misleading to describe the deals as "loans-for-oil".

These arrangements also mean that the construction of a 300,000 bpd link from
the Eastern Siberia-Pacific Ocean (ESPO) oil pipeline to China can now be
materialized. The long-awaited 1,030 kilometer pipeline starts from Skovorodino
in the Far East of Russia and ends at the Daqing oilfield in China's
Heilongjiang province. Once finished at the end of 2010, the pipeline will have
a capacity to transport 15 million tons of oil to China every year, enough to
meet around 4% of China's current oil needs. Rosneft expects to send crude to
China under the new deal beginning in January 2011.

The Petrobras-CNPC/Sinopec deal departs from the former's usual practice of not
entering into contracts committing future production and supply in its new
agreement with China. It demonstrates that Petrobras is eager to keep financing
on track for its pre-salt exploration in newly found oil reserves (for 8
billion barrel potential) deep beneath the ocean floor off Brazil's southern
coast. The entire project requires a $174.4 billion investment, and $28.6
billion input for this year alone. On the Chinese side, the 150,000 bpd that
Petrobras has promised Sinopec for 2009 would be equivalent to around 4.2% of
China's overall intake in 2008.

The agreement with Venezuela is the least definite in contrast to the other
three, as it contains no firm commitment of increasing its supply of oil, but
is only based on loosely-phrased terms "calling for" PDVSA to sell CNPC between
80,000-200,000 barrels of oil per day". Venezuelan President Hugo Chavez
announced during his April 2009 visit to China that his country aims to
increase oil shipments to China to one million barrels per day by 2010. It is
worth noting that Caracas's petroleum shipments to China only reached 168,000
bpd by December 2008, which fell way short of Chavez's original target of
400,000 bpd for 2008.

China's new venture with Kazakhstan also deviates from the "oil-for-loans"
formula. The $5 billion loan from CNPC will give Chinese oil firms a 50% stake
in the joint purchase of MangistauMunaiGaz (MMG), Kazakhstan's biggest private
oil and gas company. This deal is more like a "loan-for-oil assets" transaction
than one of "loan-for-promised-oil supply," which characterizes the previous
three contracts. CNPC will receive half of the oil that will be produced by the
jointly owned MMG (the other 50% will be owned by the Kazak state-owned firm
KazMunaiGas).

This model is more in line with the Chinese government's preference for
financing acquisitions, since it gives Chinese NOCs direct ownership of
resources - in contrast to the other three deals, whereby Chinese NOCs could
only extend loans to foreign NOCs for guaranteed oil supplies or possible
special access to future exploration projects.

China's inability to obtain outright equity oil assets stems mainly from the
oil exporters' tight grip of their national resources. The increasing
nationalistic sentiments evoked by oil-producing countries and the use of
energy as a national foreign policy tool suggest that - at least in the short
term - these deals are far from signaling a major breakthrough in China's
energy security. China was only able to secure a 50% interest from Kazakhstan's
MMG, and uncertainty remains as to whether the promised oil supplies are
sustainable on a long-term basis without occasional disruption.

Underlying conditions
The "loans-for-oil" deals are unfolding against the backdrop of the global
financial crisis and abated global oil consumption. Take Russia for example.
Rosneft, 75% controlled by the government, was burdened with $21.2 billion in
debt and Transneft with $7.7 billion. For Rosneft, its $15 billion share of the
$25 billion loan from China will comfortably cover its $8.5 billion debt
maturing this year.

In addition, China's capital injection complements the emergency capital needs
of national oil firms in Venezuela and Brazil, allowing them to further expand
their market shares and turning resources into capital. As for Kazakhstan, Xue
Li from the Chinese Academy of Social Science points out that China's $10
billion loan could help the Central Asian country initiate its $14.6 billion
economic recovery policy.

Zhang Guobao, vice minister of the National Development and Reform Commission
and head of the National Energy Administration (NEA), had pointed out in a
signed article published in December 2008 in the People's Daily (a strong
indication of being authoritative statements of government policy) that China
should seize the timing of the oil price slump on the international market to
increase imports and Chinese enterprises are encouraged by the government to
expand overseas.

Accompanying such appeals is a call is to take advantage of China's
fast-accumulating foreign reserves. The global economic crisis has presented
China with a rare opportunity to trade its abundant foreign currency reserves
for oil, mineral and other resources around the world. China now has roughly $2
trillion in foreign exchange, ranking number one in the world, and many state
firms are also flush with funds.

Beijing is considering setting up an oil stabilization fund to support
purchases of overseas resources by Chinese oil companies. The plan was
submitted at NEA's National Work Conference on Energy held in March 2009.

China offers oil-producing nations, especially Russia and Venezuela, an
alternative to Western and US markets, thereby giving them more political clout
in the international community and reducing potential vulnerability from their
existing buyers.

The Russian government plans to increase its crude oil exports to the
Asia-Pacific region from three percent in 2000 to 30% by 2020, amounting to 100
million tonnes a year. [2] Similarly, Venezuela regards China as a key link in
its strategy of diversifying oil sales away from the United States, which still
buys about half of Venezuela's oil despite years of political tensions between
the two countries.

The rationale also applies to Kazakhstan. In addition to pipelines extending to
Russia and Europe, sustainable oil supplies through the existing
China-Kazakhstan oil pipeline can enhance Kazakhstan's energy transit potential
by diversify its exporting routes, thereby reducing political and commercial
risks.

Assessments and prospects
The recent large energy activities are not the first time Chinese NOCs have
entered "loans-for-oil" deals. In 2004, Chinese banks financed Rosneft's
acquisition of Yuganskneftegaz with a $6 billion loan and CNPC received a
pledge of long-term supply contracts via rail in exchange. Beijing's continuous
efforts to secure long-term oil supplies demonstrate that Chinese national oil
firms are increasingly using a powerful tool to obtain overseas assets: loans
from government banks to resource-rich but cash-strained nations in maintaining
access to oil supplies.

Yet even under economic pressure, oil-producing countries have kept Chinese oil
companies at arms' length during the negotiations. For the former, these four
deals represent an optimal outcome - let China provide the financing while they
maintain the control of the energy assets. The terms of the agreements only
give China the "right to purchase" the oil, but not the "right to own" the oil
through equity purchase.

These "loans-for-oil" activities will remain an active component of the Chinese
overseas resource acquisition strategy given the current global economic and
energy conditions. They are accompanied by other commercial deals and
acquisitions, such as the latest commitment of $7.2 billion by Sinopec to buy
Toronto-listed Addax which has large holdings in West Africa and Iraq. The
Sinopec-Addax transaction, if finalized, will be the single largest energy
asset purchase by the China's NOCs, demonstrating the dynamic nature of China's
overseas energy security drive.

(The author would like to thank Simin Yu for his research assistance.)